The Long Tail of Banking

Only one type of banking innovation matters March 27, 2011

Recently, I was reading a blog post from Market Insights called The Problem With Innovation. It was a well-written post, discussing the challenges with innovation in banking, whether innovation should be incremental or radical, and more.  I contributed a comment, which got my mind working even further. Consider this post like an elaboration on my comment.

There are lots of types of potential innovation in banking, and many existing and startup companies are working on them–especially the incremental ones. But I think there’s really only one kind of innovation that is truly important: complete business model innovation. In other words, the only game changer will be a complete rewriting of the very core of the banking industry: the way banks and credit unions make money. There is nothing more fundamental to the entire industry than how they do these two basic things:

1) Add value to someone, and

2) Get compensated for that added value

Obviously, currently the banking business model is based on arbitrage–the banks’ ability to buy and sell money at different rates, and pocket the margin.  Phrased in the form of the two above-stated questions, banks:

1) Add value to borrowers by loaning them money, and housing their deposits

2) Charge customers to borrow that money, at a rate higher than their cost of goods sold (their deposit rates)

(Yes, I realize banks get a few bucks here and there from other sources like fee income, but overall this is an arbitrage industry.)

But are these answers the ONLY two available answers to our questions? Based on the history of the industry, you’d sure think so.

Surprise, surprise: we say no.  And that is exactly what we are working on here at Nicheruptive. Finding new ways to add value to different customer groups, and developing new and interesting ways to get paid to do so. While it is still too early (sigh…this is taking a long time) to tell you much about it, suffice it to say our P&L will look fairly different than your traditional financial institutions’ income statement.

In the meantime, chew on this food for thought a bit: what if banks and credit unions adopted other common (but nonexistent in banking) business models such as:

• Subscription model: adding value in a way such that a customer would pay a monthly fee to maintain access to that value. Think Netflix.
• Membership model: similar to the subscription model, adding value in a way such that a customer would pay annually to continue being part of the inside circle (Note to Credit Unions: No offense, but using the word “member” doesn’t mean you’ve got a membership-based revenue model). Think Costco, or your country club.
• Advertising model: adding value to advertisers by providing them access to a huge number of eyeballs, in such a way that they would pay for the ability to put their messages in front of those eyeballs. Think NBC, or Google Adwords.
• Commission: adding value by facilitating a successful transaction of some type, and doing so in a way such that people would cut you a slice of the pie for your help. Think business brokers, or share-the-settlement attorneys.

How could build a bank using one of these models? We have at least one idea…